Position of the Parties

A. DWR

According to DWR's October 8, 2002 memorandum, DWR distributed the proposed modifications to PG&E's servicing arrangements on October 3 and 4, 2002. As of October 8, 2002, DWR was unable to ascertain whether the proposed modifications were acceptable to PG&E.

DWR has proposed modifying the Original Servicing Order by making certain changes to the accounting and reporting procedures. According to DWR, these proposed modifications are found in Attachment B, and parallel accounting and reporting provisions are contained in Exhibits C and F of the Operating Order. DWR states that these accounting and reporting procedures are consistent with the policy set forth in the Contract Allocation Decision.

In its October 23, 2002 memorandum, DWR noted that, consistent with AB X1 and the Contract Allocation Decision, it would still be subject to continuing obligations with respect to the DWR contracts. In particular, these obligations include:

· Servicing the bonds as issuer;

· Managing legal and financial obligations under its long-term contracts;

· Ensuring the integrity of its revenues; and

· Fulfilling its substantial reporting obligations associated with the above.

DWR states that it is working to ensure that there is an efficient and timely transition to the utilities of the operational functions of the DWR contracts, while ensuring that DWR is able to fulfill its continuing obligations. To accomplish this goal:

"DWR believes that certain principles and arrangements must be established regarding utilities' performance of certain functions under the allocated DWR long-term contracts on behalf of DWR. The operating agreement is a compilation of such principles and arrangements that DWR believes are necessary to achieve these goals.

...

"In preparing the operating agreement, DWR's objective has been to minimize DWR's involvement in the utilities' operation of the integrated portfolio, consisting of utility and allocated DWR contract resources, and to allow the utilities to make substantially all the operating decisions. The operating agreement is intended to provide appropriate mechanisms that allow the utilities to optimize the use of the integrated portfolio of resources on a service territory basis.... After the operational transition, DWR will continue to be legally and financially responsible for the direct costs under the allocated DWR long-term contracts, including gas-related costs. As a result, DWR needs to receive timely reporting of data outlined in Exhibit F of the operating agreement.

"To implement checks and balances while operating the integrated portfolio, DWR has proposed certain accounting and revenue sharing principles in Exhibit C of the operating agreement. DWR believes that the proposed accounting and revenue sharing principles provide greater certainty of revenues and cash flows to the utilities and DWR and, accordingly, aid the utilities in their quest for creditworthy status. Finally, DWR believes that the pro rata revenue-sharing methodology articulated in the Contract Allocation Decision and further reflected in DWR's accounting and revenue sharing principles results in an equitable sharing of risk and reward. The information and data being requested under Exhibit F of the operating agreement are to facilitate DWR's verification of the utilities' remittances to DWR and costs incurred under the allocated contracts rather than to conduct an operational review of the utilities decisions.

"At this time, DWR does not believe that there is a consensus on the accounting and revenue sharing principles proposed by DWR. ... The resolution of the issues related to the accounting and revenue sharing principles will require a significant shift from the existing remittance policy and DWR believes that such a policy implementation can only be achieved with the Commission's support and active involvement." (DWR October 23, 2002 Memorandum, pp. 1-2.)

B. PG&E

PG&E has three general concerns with the modifications that are being proposed by DWR, and with the process for making the modifications.

PG&E's first concern is that the modifications proposed by DWR are inconsistent with the Contract Allocation Decision and the original purpose of the servicing arrangements. PG&E states that the only changes that are needed to conform the Original Servicing Order to the Contract Allocation Decision are to "address the specific rights and obligations for remittances of revenues for DWR surplus energy sales, as well as a separate remittance obligation for variable costs." (PG&E Comments, p. 2.)

Instead, PG&E contends that DWR's proposed modifications to the Original Servicing Order would incorporate the flawed proposal that DWR has advanced in the proposed Operating Agreement for dividing wholesale revenues. PG&E contends that D.02-09-053 directed the parties to submit the procedures for the prorating of revenues from the sale of surplus power in DWR's 2003 revenue requirement proceeding.

PG&E's second concern is that DWR's proposed modifications to the Original Servicing Order overlap with the provisions that are being negotiated by the parties in the proposed Operating Agreement. PG&E contends that this appears to be a tactic on DWR's part so that DWR's flawed methodology for the division of wholesale revenues will be adopted. This overlap could result in misuse or confusion between competing provisions in the Operating Order and the 2003 Servicing Order. Instead of adopting modifications to the servicing arrangements before an Operating Agreement is finalized, the revisions to the servicing arrangements should take place later.

The third concern of PG&E is that the proposed modifications fail to correct historical problems with the Original Servicing Order, require excess remittances to DWR, and allocate financial risk to PG&E without proper compensation. PG&E points out that:

"DWR's modifications would require PG&E to remit to DWR revenues not actually collected and DWR Power not actually provided to customers; and DWR's modifications would make PG&E the insurer of the creditworthiness of purchasers of DWR surplus power, and would require the utility to post collateral to facilitate such power sales." (PG&E Comments, p. 3.)

PG&E's comments also lists a series of other concerns with the proposed modifications to the Original Servicing Order and to the attachments. These issues fall into the following categories:

· Certain proposed modifications to the Original Servicing Order and the attachments have no relationship to the allocation of the contracts, and the contract allocation issues should be addressed in the proposed Operating Agreement or in other venues.

· The proposed modifications to PG&E's servicing arrangements make reference to an Operating Agreement which has not yet been adopted.

· Service Attachment 2 is incomplete because the utilities have not yet provided any of the information listed on that attachment.

· DWR's proposed modification seeks to increase the amount of remittances PG&E would owe to DWR by including the term "total retail demand" in section 3 of Attachment B.

· DWR's proposed modifications to section 4.2 of the Original Servicing Order and to Attachment J would require PG&E to remit amounts to DWR for surplus energy sales before PG&E actually collects revenues from such sales.

· The proposed modifications would impose risks and costs on PG&E without adequate compensation or reimbursement.

· The proposed use of the term "deemed" in sections 1.58 and 2.2(c) of the Original Servicing Order could be interpreted to broaden PG&E's remittance obligation to cover power that is not actually supplied to customers.

· The references to an agency relationship should be removed from the servicing arrangement or clarified.

· The indemnification provisions are unreasonable because they require PG&E to indemnify and hold harmless DWR for any failure of PG&E to act or perform in accordance with the servicing arrangement, and that PG&E would be required to assume such risk without any compensation.

· The Commission should revise the Original Servicing Order using PG&E's previously submitted revisions to address PG&E's fundamental concerns with the servicing arrangement.

PG&E also states that the Commission should provide additional time so that the parties can negotiate the changes to the servicing arrangements.